KPMG chief economist Yael Selfin opens first GRR Women in Restructuring conference
KPMG chief economist Yael Selfin predicted interest rates would remain low for decades but warned they could leave central banks out of options if there’s a “correction” in the fragmented European bank market, in a keynote address that kicked off GRR’s first-ever women’s event co-organised with IWIRC London.
Her keynote also examined the impact of trade tensions with China, Brexit, “wise” fiscal spending and the future of lending.
Selfin told attendees that while trade conflicts between the United States and China had so far had relatively small impact on economic measures like GDP and exports, practitioners should not underestimate their importance.
“There’s no more growth in trade at the moment, and when we look at global numbers for the growth in industrial production and manufacturing, they’re also being affected,” she said. “All of that is gradually moving to influence the overall economy.”
In Germany, for instance, which Selfin called relatively sensitive to trade pressures, the slowing in growth has now extended beyond manufacturing. “So what started as a few odd exchanges, and a few tariffs, is now actually having significant consequences on the real economy, which is spreading across sectors.”
Selfin said that for countries with tight labour markets like the UK, productivity assumed greater importance: “If you want to grow you need to produce more with the number of people you have. We need to be more productive, more efficient.”
But political uncertainty has been causing weak business investment, which in turn undermines productivity. “Prior to the Great Recession, productivity, or output per hour, used to rise on average 2% in real terms ignoring inflation – nowadays if we get 1% we’re lucky,” she said.
For the UK, low productivity means the maximum real growth the country can now aspire to is not much more than 1.5%, compared to 2.5% before the recession. In terms of nominal average market growth, while a healthy business could expect to grow 5% on average before the recession now it shouldn’t be expected to grow more than 3% at most.
“That’s a big drop when you look at it over a number of years. If we don’t get the boost to business investment and don’t fix this productivity issue, it is going to haunt us for a long time,” she said.
Selfin also called attention to the “really, really important” matter of interest rates, which she said were likely to remain “very low for very long” – she didn’t expect base rates to be higher than 3% before her retirement. “There are a lot of zombie companies surviving just because of that low rate,” she said.
But while the low rates were good for zombies, they were not so good for savers, insurers, pension funds and especially European banks. She said European banks are “generally under a lot of pain and are likely to be under a lot of pain in this environment of very low rates”.
Some countries, like Italy, have high levels of non-performing loans in their banking sectors, amid uncertainties over government policy direction.
Europe’s banks are too many, and their deposit base is too small, Selfin said. “The trouble in Europe is that banking is a very fragmented market – we are unlikely to see the consolidation we need in European finance before we have capital market union, banking union or common insolvency rules.”
She predicted that as banks become more under pressure they turn inward-looking and focused on cost savings, “something has got to give” in terms of their willingness to lend. Growth businesses may benefit from a more equity-based funding base in any event, she noted.
“We need something that is more agile – a shift from bank lending to more capital market lending, something similar to the US where growth businesses can access capital that is more keyed to the risk profile of that business,” Selfin said. “I can’t see that happening in Europe in the next two to five years.”
In response to an audience question pondering whether the plentiful money available from private investors might step in for protection where banks fail, Selfin noted that, with valuations often high, there’s increasing reluctance by private equity to step in, and a “cloud of uncertainty” in countries like the UK that discourages it from new spending.
“Generally, what I hear a lot from the private equity guys is there’s just no good deals out there.” The recent financial troubles of private equity-backed shared workspace company WeWork are an example of “how you can get overexcited,” she noted.
Instead, Selfin suggested there might be a second generation of public-private partnerships, following the big expansion of the model in the late 1990s. “Something I hear a lot about are green investments – investors are very interested in the next generation. It could be technology, but not your traditional stuff. But with technology we need to be careful, with what’s technology, and what’s hype.”
She said the banks’ problems were also a “big deal” for government debt. “We could see a much more significant rise in the cost of government debt as a result; that makes me quite worried”. A few too many failures in European banks would trigger a contraction in Europe at a time when many of its economies are still vulnerable.
Since the past decade’s recession, the global economy has had a relatively long expansion, which could mean a correction is due. But because interest rates are about as low as they can be there’s not much room for central banks to respond to a contraction.
“Central banks used to be our heroes. Last time we had [Mario] Draghi [former president of the European Central Bank (ECB)] saying he’ll do whatever it takes, and we all believed him.” The new head of the ECB won’t be able to ride to the rescue the same way. “Therefore the only game in town is really fiscal policy – governments will have to spend more.”
With the UK now facing a general election on 12 December, Selfin noted that whoever wins will still be likely to expand government spending, helped by the low rates. “But it needs to be spent wisely,” she warned.
“The worry is that, with governments as we see them at the moment, they will be distracted and spend where they shouldn’t, and we won’t actually get that investment that will encourage that increase in productivity that we need – and that money will be wasted.”
In response to another audience question, Selfin acknowledged a shift in what is now considered “wise” fiscal spending. “I think we need to accept that the way we went about things until two years ago was not all perfect, because we had some people who did really well, and some who didn’t get the chance to benefit much. There was a cost to globalisation, of shifting production to emerging markets, which means we’ve got chunks of the population in the US and Europe who were left behind.”
Investment in public spending should be on two fronts, she said. The first should be directed at investing in things that encourage productivity, such as 5G networks and transport infrastructure – “not necessarily large transport projects but definitely regional transport projects, which are very useful to link core cities with their surroundings”.
But it is also important to invest in education and upskilling, she said, especially primary school education. “That goes way beyond exam results to include areas such as mental health and the resilience of students. It’s about extra-curricular activities and after-school clubs – there’s a lot we need to do for our kids.”
One thing the economy doesn’t need is middle and upper-income tax cuts, she added. “You won’t like it but it’s the truth. That money is not going to be consumed but just saved, and not go to potential higher investment.”
Selfin finished by noting a few positive factors for western European economies, including low unemployment. “This means consumers, which are the big engine of growth, are relatively happy. Wages are okay, inflation is low so real earning is rising. Job security is relatively good. House prices are not growing strongly, but we are also not expecting a correction.”
She warned, however, that a no-deal Brexit would certainly lead to a recession “for at least four quarters”. A “big shock”, such as a European banking correction, could also derail the economy.
Selfin noted that it was “wonderful to see so many women in one room”, saying that although she speaks often, this was still a rare sight to see.
The first-ever GRR Live – IWIRC London Women in Restructuring conference was held on 7 November at Painters’ Hall in London. TMF Group sponsored its networking breakfast while Freshfields Bruckhaus Deringer sponsored the refreshment break, and South Square its lunch.
Kirkland & Ellis put on a drinks reception after the event, while Akin Gump Strauss Hauer & Feld hosted an all-conference dinner. Associate sponsors were the Ace Law Firm, AlixPartners, Avison Young, K&L Gates and Maples Group.